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A Playbook For Small-Business Job Creation

As Administrator of the Small Business Administration (SBA), Karen Mills spent four years as part of President Barack Obama’s senior economic team and a member of his Cabinet, specifically focused on the health and growth of America’s small businesses and entrepreneurs. Now Mills has brought her experience as a policy maker—as well as 25 years of experience as an investor and small business owner—to the U.S. Competitiveness Project at Harvard Business School.

Mills left the SBA last summer and accepted a two-year fellowship at HBS and the Harvard Kennedy School to tackle a question she’s faced her whole career: How can the United States drive innovation and turn it into jobs? She believes the answer to that question is key to the country’s long-term economic growth, and will help create an ecosystem that fosters entrepreneurship and small business.

“We’ve made a lot of progress on the macroeconomic front: deficit reduction, balancing the budget, what the Fed is doing, and tax policy reform,” says Mills. “But that doesn’t fully address the economic anxiety that so many people have across the country, which is centered on questions about their jobs. Will they find a well-paying job? Is their job secure? Will their children find good jobs? Will their jobs be secure? That’s what I’m here to look at—how business and government can work together to create jobs. And, any discussion on jobs must include entrepreneurs.”

Mills is approaching her work at the Competitiveness Project through a framework she calls a job-creation playbook, which is broken down into three categories: institutions (accelerators, economic clusters, and manufacturing institutes); people (workplace skills, early education, and entrepreneurship training); and capital (equity, research grants, and loans).

Mills is collaborating with HBS colleagues including professors Michael Porter, Jan Rivkin, and Joseph Fuller, who are focused on the first two categories. Mills is leading the research in access to capital, which was a primary focus of hers at the SBA.

SPREADING THE WEALTH

Having spent over 25 years in private equity and venture capital firms before becoming SBA Administrator, Mills has perspective on challenges and opportunities in access to capital for what are commonly referred to as high-growth companies, those with the greatest potential to create jobs. One challenge: geographic gaps across the United States. “Despite the fact that America has a very robust market for risk capital, about 70 percent of the venture capital goes to only three states—California, Massachusetts, and New York,” she says.

She also notes a lack of capital in America’s supply chains, particularly small and innovative manufacturers. Manufacturing supports some 17.4 million jobs in the United States—about one in six private-sector jobs, according to the National Association of Manufacturers. While largely disregarded by VCs, the Great Lakes and Southeast regions lead the nation in manufacturing employment, according to the US Bureau of Labor Statistics. Tackling the capital gap that currently exists for the nation’s smaller manufacturers must be a priority, Mills says.

“Manufacturing is critical to our nation’s competitiveness. In particular, small manufacturers who make up the nation’s supply chain are key drivers of innovation and job creation, but they must have capital to be in a position to do that.”

Mills is looking at models for delivering capital to these companies, including the SBA’s Small Business Investment Company program (SBIC). This program, which in most cases allows private investment funds to leverage a 2-to-1 match for every dollar they raise, can put up to $4 billion per year into high-growth companies. And it does so at no cost to taxpayers.

“This public-private partnership is a good example of government and the private sector working together,” Mills says. “This program has helped finance some of the best-known companies in the country when they were in their infancy-including AppleApple and IntelIntel. It’s important that we figure out how to do more of this, and SBIC may be a good model to build on.”

TRADITIONAL BANK LENDING IS STILL CRITICAL, BUT A GAP EXISTS

Mills believes traditional bank lending has a critical place in the competitiveness discussion, as well. The level of dependence of small firms on bank credit is estimated to be as high as 90 percent, according to separate studies by the Federal Deposit Insurance Commission (FDIC) and National Federation of Independent Businesses (NFIB). “Outside of savings and home equity loans, bank loans have been the critical source of capital for small businesses,” Mills says.

When Mills arrived at SBA in 2009, the nation was in recession, and lending to small businesses was at a standstill. Under her leadership, the agency took critical steps to raise the SBA guarantee on loans made by private banks, and also reduce fees. The impact was immediate. “It was like we turned on a light switch,” she recalls, snapping her fingers. “When I left four years later, we had seen two record years of doing $30 billion each year in loan guarantees.”

SBA-guaranteed loans make up only a small portion of the market, however. In the broader market, there’s still a critical problem. While the amount of loan capital for small businesses has continued to increase, the number of individual loans has not. What this points to is a gap in small-dollar loans, which are important to startups and businesses in underserved communities. These businesses often need $150,000 or less to get started and keep running, but in today’s market they continue to have trouble securing those small-dollar loans. There are a number of factors that likely contribute to this gap, Mills says, and it’s where she’s focusing some of her early attention.

“For the bankers, there’s the cost of making the loan, the fact that we have fewer banks now than we did before 2008, and the toll that the recession took on the creditworthiness and personal assets (such as real estate) used for collateral of would-be small business borrowers,” Mills says. “The bankers say they can’t find creditworthy borrowers and the borrowers talk about having to go to bank after bank before they find one that will make them a loan.”

With a white paper on this in the works, Mills and her colleagues believe the most promising solutions may actually come not from the banks or the government, but from small businesses—namely, a growing swath of high-tech startups.

“Technology can change the game,” Mills says. “We have, potentially, a new competitive landscape. Small, innovative, entrepreneurial companies are popping up everywhere to address the small business credit market.”

Mills cites the example of OnDeck Capital, a New York web-based company that has issued more than $1 billion to more than 20,000 businesses since its 2007 launch. Rather than depend on credit scores, the company uses its own algorithm to analyze data including bank transactions, sales, and customer reviews. Potential borrowers fill out applications online, automatic decisions are made in a matter of minutes, and loans are issued in as soon as one day. OnDeckOnDeck has received some $180 million in venture funding.

The startup lending industry is exciting for a couple of reasons, Mills says. One, these companies can provide online markets that might make it easier for borrowers and lenders to find each other. Two, they’re taking advantage of data to help them better assess risk and make more accurate lending decisions.

“One of the reasons that lending to small businesses is so costly is that it’s very difficult to assess credit risk,” Mills says. “Technology is providing the opportunity to think differently about how we approach small business lending, and the ones who crack the code may actually end up having an edge in a market that is vitally critical to our nation’s economic growth and competitiveness.”

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